Should you refinance your mortgage yet again? Here’s how to decide

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Mortgage rates have reversed course, and refinancing activity is on the rise. That means homeowners who participated in the great refi boom of 2020 are faced with a fresh decision: Should you refi again?

At mortgage lender Lower, that’s a common question from borrowers, says Chelsea Wagner, a regional vice president. In about half of cases, the answer is yes, a second refi could be a savvy move.

“It comes down to: Does it make sense?” Wagner says. “When rates dropped in 2020, everyone went rushing to refinance. It really depends on when you closed.”

As the coronavirus pandemic unfolded, rates plunged to record low after record low. So if you refinanced in May 2020, your rate might be 3.5 percent. If you waited until late 2020 or early 2021, your rate could be less than 3 percent.

The average rate on a 30-year fixed-rate refinance is 3.04 percent as of July 28, according to Bankrate’s national survey of lenders. If your mortgage refi coincided with the absolute bottom of the market, another refinancing probably doesn’t make sense. On the other hand, if you refinanced early in the pandemic, another move could make sense.

“Before refinancing twice in one year, it’s important to take a close look at the numbers and make sure the consumer is making a smart financial decision,” says Glenn Brunker, president of Ally Home. “A good rule of thumb is the interest rate must improve by 50 basis points to make it advantageous to the borrower.”

In other words, if your current mortgage is at 3.5 percent, you’ll want to score a refi rate of 3 percent or lower. Greg McBride, Bankrate’s chief financial analyst, offers similar advice.

“Mortgage rates are at the lowest levels since February and not far removed from record lows, so it is entirely plausible that homeowners that purchased or refinanced in the first half of 2020 could be candidates to do so again,” he says. “If you can cut your rate by one-half to three-quarters of a percentage point and expect to be in the home more than three years, you should look into it.”

Calculate your break-even point

One important thing to remember: You’ll incur closing costs each time you refi, and that can add up to 2 percent to 4 percent of the amount of the loan. That makes it important to calculate your break-even point, the month when the lower payments will equal the amount of closing costs from the new loan.

Say you borrowed $300,000 last spring at 3.5 percent, which equates to a monthly payment of $1,347. If you can refinance into a mortgage at 3 percent, your monthly payment falls to $1,265, a savings of $82 a month.

So even if your closing costs are a modest $6,000, it’ll take more than six years for the refi to pay off.

That harsh math is why Gordon Miller, head of Miller Lending Group in Cary, North Carolina, champions mortgages with no closing costs.

“With a no-cost option, you can refinance every six months if the market warrants without losing equity,” he says. “For everyone else it becomes a math game of how much can I save vs how long it takes to break even, and then they invariably have to refinance for other reasons that may be unpredictable at the time.”

Soaring home values create refi opportunity

Falling rates are just one variable in the refi calculus. Another is the value of your home. Property prices are soaring. If you bought last year with a low down payment, chances are your home is worth more.

“Many existing homeowners have built equity thanks to rising home prices,” Brunker says.

Say, for instance, you put 5 percent down on a $300,000 home, meaning you borrowed $285,000. If your home value has jumped to $360,000, your loan-to-value ratio is now close to the 80 percent threshold that frees you from private mortgage insurance.

Having a lower loan-to-value ratio might qualify you for a slightly better mortgage rate, Wagner says.

Borrowers who took Federal Housing Administration loans can be especially good candidates for refinancing. That’s because FHA loans include steep mortgage insurance premiums that don’t go away over the life of the loan.

The mortgage insurance premium on an FHA loan is 0.85 percent per year. So on a $300,000 loan, it’s $2,550, or $212.50 a month. Eliminating that monthly fee could make refinancing into a conventional loan without mortgage insurance a good move.

How to refinance your mortgage

Step 1: Set a clear goal

Have a compelling reason to refinance. It could be cutting your monthly payment, shortening the term of your loan or pulling out equity for home repairs or to repay higher-interest debt. You may also want to roll your HELOC into a refi.

What to consider: If you’re cutting your interest rate but resetting the clock on a 30-year mortgage, you might pay less every month but more over the life of your loan. That’s because amortization schedules front-load interest charges in the early years of a mortgage.

Step 2: Check your credit score

You’ll need to qualify for a refinance just as you needed to get approval for your original home loan. The higher your credit score, the better refinance rates lenders will offer you — and the better your chances of underwriters approving your loan.

What to consider: Lenders became stricter about extending credit during the pandemic, so the typical mortgage borrower’s credit score is higher now than ever. While there are ways to refinance your mortgage with bad credit, it can make sense to spend a few months boosting your credit score before you start the process.

Step 3: Determine how much home equity you have

Your home equity is the value of your home in excess of what you owe your mortgage lender. To find that figure, check your mortgage statement to see your current balance. Then, check online home search sites or get a real estate agent to run an analysis to find the current estimated value of your home. Your home equity is the difference between the two. For example, if you still owe $250,000 on your home, and it is worth $325,000, your home equity is $75,000.

What to consider: You may be able to refinance a conventional loan with as little as 5 percent equity, but you’ll get better rates and fewer fees (and won’t have to pay for private mortgage insurance, or PMI) if you have more than 20 percent equity. The more equity you have in your home, the less risky the loan is to the lender.

Step 4: Shop multiple mortgage lenders

Getting quotes from multiple mortgage lenders can save you thousands. Once you’ve chosen a lender, discuss when it’s best to lock in your rate so you won’t have to worry about rates climbing before your loan closes.

What to consider: In addition to comparing interest rates, pay attention to the cost of fees and whether they’ll be due upfront or rolled into your new mortgage. Lenders sometimes offer no-closing-cost refinances but charge a higher interest rate or add to the loan balance to compensate.

Step 5: Get your paperwork in order

Gather recent pay stubs, federal tax returns, bank statements and anything else your mortgage lender requests. Your lender will also look at your credit and net worth, so disclose your assets and liabilities upfront.

What to consider: Having your documentation ready before starting the refinancing process can make it go more smoothly.

Step 6: Prepare for the appraisal

Mortgage lenders typically require a mortgage refinance appraisal to determine your home’s current market value.

What to consider: You’ll pay a few hundred dollars for the appraisal. Letting the lender know of any improvements or repairs you’ve made since purchasing your home could lead to a higher appraisal.

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Written by
Jeff Ostrowski
Senior mortgage reporter
Jeff Ostrowski covers mortgages and the housing market. Before joining Bankrate in 2020, he wrote about real estate and the economy for the Palm Beach Post and the South Florida Business Journal.
Edited by
Senior mortgage editor